A long, long time ago, I can still remember how, that election had us all talking about sterling (well, some of us). Instead now we are hard put not to talk about mass dividend cuts, with Link Group estimating dividend cuts of 47% or more in the UK equity market. Way back in those distant epochs of early December 2019, we appeared to be approaching a greater degree of certainty about the shape of the future in the UK: an election was in the offing which promised to help resolve the outlook for our relationship with the EU and the rest of the world, and to clarify what kind of environment businesses would face going forward. At the time, GBP looked undervalued on the basis of the Economist’s ‘Big Mac’ index (a way of looking at the relative valuations of various currencies based upon the relative cost of a McDonald’s Big Mac in different countries). With signs that global investors’ positions in UK assets were starting to move towards normality from their previous large underweights, it seemed prudent to highlight that a rising currency could prove a headwind for dividend streams. With UK payout ratios (the proportion of earnings paid out as dividends) very elevated, and in general terms a roughly inverse relationship between UK corporate earnings and the strength of the currency, dividends funded by overseas earnings logically seemed somewhat vulnerable. Sure enough, following the general election we saw the GBPUSD rate move up to c. 1.35 in fairly rapid fashion (having traded below 1.30 since May 2019). Even so GBPUSD remained short of the ‘fair value’ level of c. 1.42 suggested by the ‘Big Mac’ index at the time, but there were certainly positive signals in sentiment surveys that suggested sterling was setting up for a more durable rally.
Companies: TIGT ASEI JCH CTY DIG SCF BRIG ASL
BlackRock Income & Growth (BRIG) targets growth in both income and capital over the long term. With an extensive team that also runs a successful open-ended UK equity income product, BlackRock have been running BRIG since 2012; the open-ended fund has successfully increased its distribution every year for the past 30 years. Whilst there is significant overlap between the trust and its open-ended relation, the managers, Adam Avigdori and David Goldman, are keen to take best advantage of the trust structure for this product. The managers have greater scope to invest in smaller, less liquid names, enabled by the closed-ended structure and relatively modest size of BRIG’s assets (c. £50m) enables, balancing opportunities for both capital and income growth - read a detailed overview of BRIG's portfolio construction. Income is an important feature of the trust, but the management team are equally concerned with growing distributions as with providing a headline yield. Whilst the portfolio’s overall level of income is considered important, not all stocks are expected to contribute to it. The managers seek to run a concentrated portfolio of around 40 stocks, and to ensure that stock-specific factors are the main driver of returns. Portfolio construction places stocks into three ‘buckets’: Yield & free cash flow opportunities; Growth opportunities; and Turnaround opportunities. The portfolio is heavily weighted towards the first category, but around 20-40% will be held in the latter two buckets, which the managers believe can help drive capital growth. Recent performance has improved, driven in large part by stock-specific factors, with previous sector headwinds proving less of a factor in 2019 thus far. BRIG has successfully grown its dividend under the stewardship of Adam and David, with total growth significantly outstripping inflation since BlackRock took over management of the trust. The present yield of c. 3.6% is well covered, with sizeable revenue reserves. Click here to find out more about the trust's dividend policy. The board operates an active discount control policy, looking to buy back shares tactically when the trust is trading on a discount to net asset value (NAV), and reissue them from treasury when the trust is at a premium. This has helped contribute to reasonably constrained discount volatility, as we discuss in more detail here.
Companies: Blackrock Income & Growth Invt Trust
All leaderships come to an end at some point. With investment trusts, however, it is rarely the electorate (aka shareholders) who initiate the change in manager. In some cases it is the board. In others, it is the management company itself recognising the need for a new manager, and replacing them before the board feels the need for more decisive action. A change instigated by the board will often result in a transformative outcome for a trust, perhaps with a change in management house as well as personnel. Changes proposed by the management company itself can be just as transformative, but can also be subtler. The aims are always the same: to improve performance for shareholders, and to stimulate demand to bring in the discount, or grow the trust through share issuance. Last week witnessed one of the more dramatic changes of manager in recent years. On 29 November Baillie Gifford effectively took control of the portfolio of European Investment Trust, one of the last remaining value trusts in the sector. The mandate being awarded to Baillie Gifford (the pre-eminent growth investment house) represents a significant change for shareholders, and comes after several years of a growth bull run. Time will only tell whether the board’s decisive (and dramatic) switching of horses will prove correct. In this article we reveal the results of a detailed analysis on how effective past manager changes have been for investment trusts.
Companies: JAM BRNA BRIG MWY
It used to be said that in central London you were never more than six feet from a rat. Nowadays, the saying has been updated: you are never more than six feet from a Pret-aManger. Before Pret came McDonald’s, serving the same burgers in the same buns from London to Tokyo. Such was the ubiquitous nature of the fast food giant that in 1986 The Economist launched the ‘Big Mac Index’. Presently, this famous index of relative currency strength suggests sterling is seriously undervalued  . Sterling has certainly been weak since the 2016 Brexit referendum, and remains c.12% below its level on the day before the Brexit vote. Yet it has climbed c.8% from its lowest point in August (as of 26 November) as a no-deal Brexit appears to be off the table. We believe a more sustained rebound in the currency could be on the horizon – at least, assuming the Conservatives win the general election. This could be good news for those owning UK assets but, for UK companies with overseas earnings, it might make meeting and growing dividends more challenging. For UK large-caps in particular, a further rise in sterling could lead to dividend growth being weak, given the large proportion of those companies’ earnings are derived from overseas. Open-ended equity income funds will have no protection against this, but it is exactly the sort of environment where the closed-ended structure can shine. By being able to build up revenue reserves, investment trusts have the ability to build up a safety net against this sort of eventuality, as we discuss below.
Companies: SCF JCH BRIG CLIG ASEI
BlackRock Income & Growth (BRIG) has twin aims of providing a rising dividend, but also growth in capital over the long term. Whilst BlackRock has only been running the trust since 2012, the team behind it has a much longer pedigree. They have run the same investment process for over 30 years, and (according to BlackRock) the BlackRock UK Income fund holds the impressive record of being the only UK OEIC that has increased its distribution each year for 30 years. Speaking to co-manager Adam Avigdori recently, he commented on how well suited the trust structure was to their approach. He highlighted that a closed-end fund puts a manager in an ideal position to take controlled risk, and allows them to have strongly held views through a cycle. He feels this aids their investment approach, and together with the relatively small size of the trust currently (£46m of net assets) gives them a competitive advantage over peers, with huge flexibility to buy or sell companies of all sizes. As such, Adam believes BRIG is an ideal vehicle to deliver dividend growth for investors. As we discuss below, since 2012 the team have grown the trust’s dividend by 4.7% a year and built up a reserve equal to a year’s dividend. Adam and David employ a high-conviction approach to stock picking, with the portfolio expected to have between 30 to 60 holdings at any one time - currently numbering 43. The team buy companies purely on an opportunity led basis, but try to provide some diversification across the portfolio through allocating across three “buckets”, defined by the broad type of investment opportunity. Yield and free-cashflow is typically expected to be the biggest allocation, of between 60-80% of the portfolio, currently 68%. The team also look for growth opportunities, expected to be between 10-30% of the portfolio, currently 23%. The final bucket is turnaround situations, expected to be between 0-10%, currently 9%. A key differentiator to many other competitor funds and/or trusts is the multi-cap approach. Using the advantages conferred by the closed end structure and the relatively small size of the trust, the team opportunistically venture into the small and mid-cap (SMID) sphere where they have particularly high conviction – with no official maximum weighting. Currently c.18% of the portfolio is in SMID stocks, mostly found in the growth bucket of the portfolio. Performance over the past five years is impressive, with the trust c.8% ahead of the benchmark but also beating the average investment trust peer by 4.6% and the average open-ended peer by 10.6%. 2014 and 2015 were both very strong years of outperformance, but 2016 proved to be a more difficult environment – with miners rallying hard – an area which the managers have had a long term underweight. Over the past 12 months (to 23 May 2019), BRIG is behind the FTSE All Share by 0.6%. Several stock specifics impacted the portfolio last year, which have so far more than been made up for by calendar year performance to date. Outside of total returns, BRIG’s raison d’etre is to provide a growing dividend over time. As such, since being awarded the mandate in 2012, the BlackRock team have grown the trust’s dividend by 4.7% a year and built up a reserve equal to a year’s dividend. The trust’s headline yield of 3.7% is modestly lower than the UK Equity Income sector weighted average of 3.9% (source: JPM Cazenove). This reflects the manager’s desire to deliver sustainable dividend growth over time, which is evidenced by the impressive earnings growth delivered by the portfolio since BlackRock took over management of 7.7% pa. The board has been employing an active discount control mechanism for over five years, and the discount currently stands at a historically wide level of 5.6%. Over time, discount volatility has been relatively low, with the trust’s discount having been broadly in-line with the UK Equity Income sector.
Today, we introduce our investment trust ratings. According to the quantitative screens we have selected in an attempt to highlight the best performers in the closed-ended universe, the trusts discussed here have been the best in their classes over the last five years. We have selected trusts using two different sets of criteria, aiming to identify the top performers for capital growth and for achieving a high and growing income. There are many rating systems for open-ended funds, but no quantitative-based system for investment trusts that is available to the average investor. While we cannot identify trusts which will perform well in the future – past outperformance is no guide to future out-performance – we hope these ratings will highlight the outstanding performers in the closed-ended universe and those managers who have best used the advantages of investment trusts to generate alpha. We are trying to reward consistent and long-term outperformance, and so we have decided to look over a five-year period. All data is as of the end of December 2018, sourced from Morningstar and JPMorgan Cazenove. We have looked at NAV total return performance and discount value has not been considered: the aim is to identify those trusts which have performed the best rather than highlight bargains.
Companies: IPU FAS ATR JEO FEV FGT THRG SEC PAC BRSC IAT HNE MIGO TRY JMG DIVI SLS BGS SDP JETI SOI BCI MRC TIGT EDIN JAI BEE SDV BRIG AAIF HFEL SCF SIGT BRFI IVPG CTY HINT JCH NAIT
BlackRock Income & Growth (BRIG) has twin aims of providing a rising dividend but also growth in capital over the long term. The managers have an over-riding focus on earnings growth and free cashflow. In their view, free cashflow is the fundamental backdrop for sustained dividend growth. They don’t want to see portfolio companies paying dividends “at all costs”, as they believe often this will be at the expense of future growth. The managers employ a high-conviction approach, with the portfolio currently numbering 43 stocks. A key differentiator to many other competitor funds and/or trusts is the multi-cap approach. Using the advantages conferred by the closed-end structure, the team opportunistically ventures into the small and mid-cap (SMID) sphere, where they have particularly high conviction (currently 27% of the portfolio is in SMID stocks). Whilst BRIG itself is relatively small with total assets of £54m, the mangers also run the £400m open-ended BlackRock UK Income Fund. The team’s portfolio turnover of c 40% p.a reflects their view that they have the best of both worlds - the luxury of being nimble, but with the huge resources of BlackRock behind them. BRIG’s key differentiating factors relative to the OEIC is the gearing facility, and an extended ability to buy small-caps. Having formally ratified the investment process in 2013, the team got off to a very strong start outperforming the benchmark by a considerable margin over the first couple of years. In 2016 they gave back some of this performance thanks to their underweight in miners, but since then have broadly kept up with the benchmark – not a mean feat given its strength. At the time of writing, the shares yield 3.3%, which is below the average of the peer group. However, in terms of revenue generation, the team has generated earnings per share growth of 8.7% per annum since being awarded the mandate. The team believes that this is testament to their focus on cash generation, robust balance sheets and trusted management to ensure the long-term sustainability of the dividend. As a result, since 2012 the board has been able to pay a rising level of dividends, delivering a compound annual growth of 4.7% and at the same time, building up significant revenue reserves which (as at the last report and accounts) constitute a year’s dividend (6.6p per share). This means that the board has plenty of room for manoeuvre should the portfolio suffer an earnings shock. The board has run an active discount control mechanism since 2013, which has resulted in relatively low discount volatility. As such, the trust typically trades close to NAV, and currently stands on a discount of 2.1%.
Income has for a long time been top priority for British investors, stripped of the traditional source of income that a savings account once represented by a decade of negligible interest rates. But with bonds in a parlous state and the wheels finally coming off the buy-to-let bubble, the range of options available is increasingly narrow. Equities have for some time now been the beneficiary of this search for yield and equity income funds have done very well on the back of this, attracting huge inflows. However, as we have highlighted in the past, many of them are investing in just a small range of companies and those companies are themselves increasingly stretching for yield - putting this refuge for the income seeker on somewhat thin ice. With all this behind us, and mounting uncertainty about the current rally in front of us, where then is a sensible place to find it?
Companies: JCH IVI EDIN BRIG IVPU SOI BEE
Using a total return investment philosophy, BlackRock Income & Growth aims to provide growth in capital and income over the long term by investing in a portfolio of principally UK-listed equities. The managers set out their investment philosophy clearly in mid2013, and have followed the same process continuously since then. Whilst there has been some turnover in the “lead-manager” position, there has been continuity in the approach of the 13 managers contributing to the process. The team operate with a relative concentrated portfolio, currently 46 names with slightly higher turnover than average, reflecting the team’s rigid active investment process and price targets. Currently, the portfolio is biased towards high-quality stocks that are delivering strong free cash flow via sustainable, organic means. In addition, 20% of the portfolio is invested in ‘growth’ names, and 10% in what the team view as ‘turnarounds’. Whilst BRIG itself is relatively small with total assets of £55m, the mangers also run the £400m open-ended BlackRock UK Income Fund. BRIG’s key differentiating factors relative to the OEIC is the gearing facility, and an extended ability to buy small caps. Having formally ratified the investment process in 2013, the team got off to a very strong start outperforming the benchmark by a considerable margin over the first couple of years. In 2016 they gave back some of this performance thanks to their underweight in miners, but during 2017 have broadly kept up with the benchmark. At the time of writing, the shares yield 3.4%, which is below the average of the peer group. However, the board have built up revenue reserves of 1x the dividend, which potentially puts the trust in a good position given the ambition to consistently grow the dividend over time. The team have grown the distribution of their open-ended fund ahead of inflation for over 30 consecutive years now. The board have run an active discount control mechanism since 2013, which has resulted in relatively low discount volatility. As such, the trust typically trades close to NAV, although currently stands on a discount of 5%.
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Ramsdens has reported a strong set of trading results in the last twelve months to March 2020. COVID lockdown has led to store closures, which will lead to weaker trading over the following months. However, Ramsdens has a very solid balance sheet, is diversified and is well positioned to re-open stores and continue its growth. We use an 8x multiple on last 12 months to March 2020 earnings as a reflection of a normalised earnings base which reduces our target price to 162p from 180p. At this target price Ramsdens would trade on a CY20 P/B of 1.5x. This target price offers 15% upside and we re-iterate BUY.
ULR’s finals were in line with on EPRA NAV and earnings a little better than expected. Valuations remain stable and full rent collection has been achieved for the current quarter. We see fundamental quality and resilience in the (now expanded) portfolio – ULR has already invested nearly £100m in the first two months of the new year following the £136m equity raise. We make no material changes to forecasts. Current valuation points to an 7%+ annualised return, with upside remaining from deployment of funding headroom, active management and potential for valuations to improve.
Companies: Urban Logistics REIT
A number of REITs have the ability to thrive in current market conditions and thereafter. Not only do they hold assets that will remain in strong demand, but they have focus and transparency. The leases and underlying rents are structured in a manner to provide long visibility, growth and security. Hardman & Co defined an investment universe of REITs that we considered provided security and “safer harbours”. We introduced this universe with our report published in March 2019: “Secure income” REITs – Safe Harbour Available. Here, we take forward the investment case and story. We point to six REITs, in particular, where we believe the risk/reward is the most attractive.
Companies: AGR CSH ESP DIGS IHR LXI PHP RESI SIR SUPR THRL SOHO BBOX SHED WHR
Aside from its FY 19 earnings presentation, British Land has adopted a more cautious anticipation about Offices in the City of London. We share this pessimism and have been surprised by the recent share’s bump. The latter is the opportunity to turn negative, again, and update our divestment case.
Companies: British Land Company
The Merchants Trust (MRCH) is managed by Simon Gergel at Allianz Global Investors (AllianzGI). Aiming to continue to provide a high and growing level of income, he is adjusting the trust's portfolio in the wake of dividend cuts sparked by the negative economic effects of COVID-19. If there is an income shortfall in this financial year, MRCH is well positioned to maintain its dividend, with revenue reserves of more than 1x the last annual payment. It has not been an easy period for value managers over the last decade as growth stocks have led the charge; however, Gergel has outperformed the UK market over this period in both NAV and share price terms. The board reduced MRCH's gearing in late January 2020, which was opportune timing ahead of the recent significant stock market weakness.
Companies: Merchants Trust
The covid-19 pandemic has had a devastating effect on the share price of property companies, with 31% wiped off the value of their total market capitalisation during the first quarter of 2020.
Companies: AEWU CREI CSH BOOT INL HLCL THRL SUPR RESI RGL DIGS GR1T SOHO PHP BOXE ASLI UTG AGR UAI BLND UANC CAL SHED CWD WHR EPIC WKP GRI YEW HMSO PCA INTU NRR
In the past month the group has made significant progress in pivoting its business away from its traditional face-to-face model. Although lending levels remain appropriately subdued, it has achieved an impressive collections performance, with its largest business running at about 90% of pre-lockdown levels. This, combined with the group’s high risk-adjusted margins has enabled it to generate £3m of FCF in the first three weeks of April, taking its net cash position to £38.7m as of 21 April. This strong financial position, combined with the group’s innovative approach to product development puts it in an extremely strong position to serve its clients and win share when the current government restrictions are eventually lifted. Reflecting this positive outlook we reiterate our BUY rating.
Companies: Non-Standard Finance
In this note, we analyze the indebtedness of 35 international E&Ps publicly listed in the UK, Canada, Norway, Sweden and the USA. For each company, we look at (1) cash position, (2) level and nature of debt (including covenants), (3) debt service and principal repayment framework and (4) Brent price required from April to YE20 to meet all the obligations and keep cash positions intact. We also estimate YE20 cash if Brent were to average US$20/bbl from April to YE20. While the oil demand and oil price collapse are of unprecedented historical proportions and the opportunities to cut costs much more limited than in 2014, most companies (with a few exceptions) entered the crisis in much better position than six years ago, with stronger balance sheets and often already extended debt maturities. In addition, this time around, many E&Ps have already been deleveraging for 1-2 years and are not caught in the middle of large developments that cannot be halted. The previous crisis also showed that debt providers could relax debt covenants for a certain period as long as interest and principal repayment obligations were met. This implies that as long as operations are not interrupted and counterparties keep paying their bills (Kurdistan), the storm can be weathered by most for a few quarters.
With (1) Brent price of about US$50/bbl in 1Q20, (2) reduced capex programmes, (3) material hedging programmes covering a large proportion of FY20 production at higher prices and (4) limited principal repayments in 2020, we find that most companies can meet all their costs and obligations in 2020 at Brent prices below US$40/bbl and often below US$35/bbl) from April until YE20 and keep their cash intact, allowing them to remain solvent at much lower prices for some time. In particular, Maha Energy and SDX Energy are cash neutral at about US$20/bbl. When factoring the divestment of Uganda, Tullow needs only US$9/bbl to maintain its YE20 cash equal to YE19. Canacol Energy, Diversified Gas and Oil, Independent Oil & Gas, Orca Exploration, Serica Energy and Wentworth Resources are gas stories not really exposed to oil prices and Africa Oil has hedged 95% of its FY20 production at over US$65/bbl.
Companies: AKERBP AOI CNE CNE DGOC EGY ENOG ENQ GENL GKP GPRK GTE HUR IOG JSE KOS LUPE MAHAA OKEA ORC.B PEN PHAR PMO PTAL PXT RRE SDX SEPL TETY TGL TLW TXP WRL
The positive market movements (£19.5bn) offset the net outflows of £1.3bn. The adjusted operating profit before tax reached £1,149m, down 21.9% yoy. The insurer benefited less from longevity assumption changes (£126m vs. £441m in 2018) in the Heritage business and the lower Asset Management fees margin (38bp vs. 40 bp in 2018) in the Savings and Asset Management one. The current context has led to a decrease in the Solvency II ratio by 10%, but the capital position remains resilient at 166%.
Today's news & views, plus announcements from VOD, POLY, SMDS, BLND, BYG, WEIR, DC, SNR, SHI, INTU, IHR, CNC, ARE, INCE
Companies: INTU SHI INCE
U+I’s post-close trading update confirms c. £16m of development and trading gains for FY20, which includes Harwell. This is broadly in line with our revised expectations. Proactive steps are being taken to preserve liquidity in the short-term, including suspending the final dividend and stopping all non-essential spend. Positively, benefits of the cost saving programme will now be realised 12 months early. The balance sheet is strong, with ample liquidity; covenant levels are a long way off. Management’s time is being spent repositioning teams to be ready when restrictions are lifted, when there will be a renewed focus on the short-to-medium term value gain opportunities, of which there are plenty. The shares currently trade at 59% spot discount to our updated NAV forecasts, vs the UK sector at a 9% discount. We leave our recently lowered 180p target price unchanged and continue to see upside from here.
Companies: U&I Group
Recent news: On 21 April CLIG’s 3Q trading update to 31 March 2020, revealed:
27% fall in Funds Under Management (“FUM”) from US$6.0bn to US$4.4bn
- with weaker Sterling, FUM in £ fell 20% from £4.5bn to £3.6bn.
In 3Q, while Diversification CEF strategies (Opportunistic Value and Developed funds) had net inflows of US$25m, the Group’s Emerging Market Funds had net outflows US$68m
The Group has an active pipeline across all its major CEF offerings with increased interest in the Diversification CEF strategies
Post COVID-19, income to FuM remains unchanged at c. 75 bps of FuM
Companies: City Of London Investment Group
The COVID-19-related crisis further increases the top-line pressure. However, the quarter showed ongoing efficiency gains and, above all, management’s cost of risk guidance stood significantly below our stress test based projections.
Companies: Lloyds Banking Group
Smaller companies are usually a problematic area to invest in during significant downturns or recessions; and the sharp fall in 2020 hasn’t been an exception. In this article we assess the performance of smaller companies trusts throughout the pandemic, while identifying the factors that have differentiated the winners from the losers. This includes the impact that cash, market cap exposure, sector allocation, revenue exposure and growth or value biases have had, with some surprising results. We also ask whether now is an attractive time to invest in smaller companies, highlighting the trusts which stand out to us…
Companies: THRG GHE MINI RMMC ASIT ASL MTE TRG BRSC DSM
We wrote on 7 May, about the shape of the music global industry following the publication of the IFPI 2019 report. Taking a deeper dive into this report we examine the prospects of further growth in streaming numbers as the nonwestern markets come online.
Companies: Hipgnosis Songs Fund